Bailout: Policy Lags

There are lags in the implementation of macroeconomic policy because of:

1. Data lags: Many macroeconomic data series such as GDP are only available with a considerable lag, and they are subject to big revisions. Because of this, information policy makers use is retrospective, not contemporaneous. Getting information about the current state of the economy is difficult, we don’t have good information until months after the economy has already changed course.2. Recognition lag: Once the data are finally available it takes time to figure out what they are saying. Is the downturn in employment in this month’s data temporary, or the beginning of a longer term trend? If it’s temporary, no need to act, but if it’s permanent, then action may be needed.3. Legislative lag: Once we’ve obtained the necessary data and concluded something must be done, there can be considerable lags in the legislative process as legislators debate the exact form of the package, or oppose it altogether.4. Implementation lag: Once a policy is passed, it takes time to put it into place, e.g. to set up the administration of the money, to deliver it to the right agencies, to make the plans needed to spend it, etc.5. Effectiveness lag: After all of that, and the policy is finally put into place, it takes time for policy to hit the economy and take effect. For monetary policy if can be a year to a year and a half before the peak effect of the policy is felt (though the legislative lages are much shorter since the FOMC can act faster than congress). The effectiveness lag for fiscal policy is a bit shorter, but still considerable, six months at least.

It took some people awhile to get past the recognition lag stage, but I don’t think anyone is in denial any longer. The problem now is legislative lag – we may have to wait for a new administration to do what is needed – and even after the transition the policy won’t be put into place immediately. Thus, we could be looking at eight months or more – optimistically – until fiscal policy can have the needed effect. It’s possible that some policies, e.g. a suspension of the payroll tax for people earning under a certain amount would take effect faster, the most recent tax rebate seems to have hit the economy fairly fast once the checks were finally mailed (which didn’t happen overnight), and that is why I have advocated some type of tax cut or rebate as part of any stimulus package (which should also include infrastructure spending for a more sustained impact the economy, including the long-run benefits to growth from such expenditures.).

Economists have been calling for aggressive action for some time now (with some exceptions, and to the extent those exceptions have delayed policy, they have done real harm to people’s lives, people whose jobs could have been saved through earlier, aggressive action that was being called for).

It’s not too late to do something, but we’re getting there, and there’s no room for further delay. More delay means more unemployment and more ruined lives. Congress needs to take this with the same degree of urgency that it showed during the financial crisis. We needed a package to be in place yesterday not two months from now.

Mark Thoma is a member of the Economics Department at the University of Oregon. He joined the UO faculty in 1987 and served as head of the Economics Department for five years. His research examines the effects that changes in monetary policy have on inflation, output, unemployment, interest rates and other macroeconomic variables with a focus on asymmetries in the response of these variables to policy changes, and on changes in the relationship between policy and the economy over time. He has also conducted research in other areas such as the relationship between the political party in power, and macroeconomic outcomes and using macroeconomic tools to predict transportation flows. He received his doctorate from Washington State University.